Governance at private companies can be simple. But when
stakeholder interests aren't aligned, a company begins to slide
into the realm of independent directors and shareholder
This month and next, we'll look at
corporate governance in emerging private companies. Very little
governance is prescribed for companies of this sort. Generally,
they must have at least one director, and they must provide basic
financial material to shareholders on an annual basis. An annual
meeting is also required, although this can be satisfied in
Additional governance, however, may be introduced by the wishes
of one or more of the company principals, or it may be required as
part of a financing. Often, this additional governance is
represented by an agreement signed by all shareholders called a
unanimous shareholders agreement (USA).
Although I am often asked for an "off-the-shelf"
version of a USA, the nature of these agreements – their
complexity, coverage and substance – should be tailored
to the needs of the company. An agreement appropriate for the
controlling shareholder of a sizeable company is unlikely to be
well-suited to the needs of an earlierstage enterprise, for
instance. Dealing with the specific requirements of the
shareholders and the business help ensure that corporate governance
is positive and constructive, rather than formalistic or unduly
Who's on First?
The most basic governance decision to be made in a USA is
whether the company will be run primarily by its board or by its
shareholders. In the latter case, the USA will provide that a
significant number of corporate decisions require approval by a
particular shareholder or shareholder class. Typical matters that
might require the approval of the majority of preferred
shareholders include: executive compensation; annual plans;
unbudgeted and capital expenditures; borrowings; acquisitions;
financings; mergers; initial public offerings; and related-party
The alternative is to establish a board of directors and leave
these decisions to the board. A board of this sort would be
composed of, say, two founder nominees, two investor nominees and
one independent director approved by both. Significant matters
would then simply be decided by the board generally, with no veto
to the investor, and with "control" over corporate
decisions effectively in the hands of the independent director.
Even in this model, however, it is customary to reserve some
decisions for approval by the investor, usually decisions affecting
the nature of the investment itself rather than the business
— for instance, the creation of classes of shares equal
to or in priority to the investor's shares.
While the "director-driven" model involves ceding
control to the board earlier than under the shareholder-control
model, it affords the opportunity to introduce and get used to a
functioning board, and it avoids the adversity and constraints of
an investor-veto model.
How Do I Get Out?
USAs usually deal with a variety of issues around
"liquidity." It is common to require that a liquidity
event occur within five years — financial investors need
to make and show a return, and are not in their deals for
indefinite terms. Investors often reserve a right to require the
company to purchase their holding at "fair market value"
if a satisfactory IPO or other liquidity event (sale of the
business) has not occurred.
Otherwise, USAs typically constrain individual shareholders'
rights to liquidity. While usually permitting transfers to
"controlled entities" to facilitate tax and family
planning, USAs will generally not permit individual shareholders to
sell shares. Restraints may be imposed to retain key executives, to
avoid the compromising of confidentiality (if a competitor acquired
shares, for example), or to avoid placing a market value on shares
(which can be adverse to future funding intentions). On the other
hand, some shareholders, and particularly purely financial
investors, may require that they have the right to sell their
stock, or even the entire business, in certain circumstances.
Rights of the various parties in these situations are usually
regulated in the USA through first right, tag-along and drag-along
Next month, we'll look at how these rights work, and provide
practical guidance about how USAs can be amended or terminated.
The content of this article is intended to provide a general
guide to the subject matter. Specialist advice should be sought
about your specific circumstances.
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Under the Income Tax Act, the Employment Insurance Act, and the Excise Tax Act, a director of a corporation is jointly and severally liable for a corporation's failure to deduct and remit source deductions or GST.
Under the Income Tax Act, the Employment Insurance Act, the Canada Pension Plan Act and the Excise Tax Act, a director of a corporation is jointly and severally liable for a corporation's failure to deduct and remit source deductions.
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